By Michael Flaherty and Jonathan Spicer
WASHINGTON/NEW YORK (Reuters) - The debate within the Federal Reserve over how to telegraph a rise in interest rates heated up last month, with several officials concerned about misleading investors and pushing for a more data-dependent approach, according to minutes from its last policy meeting.
But as the Fed grapples with how to communicate its view on hiking rates, the minutes also show concern about the rising dollar, slowing inflation, and economic turmoil in Europe and Asia, factors that support the U.S. central bank's current stance of keeping policy accommodation in place for the near future.
The minutes of the Sept. 16-17 meeting, released Wednesday after the usual three-week lag, revealed an underlying concern that expectations of financial markets are slightly out of sync with Fed expectations, and that dropping the current policy language could send unintended signals.
Investors bid up U.S. stocks and bonds, and pushed later futures bets on the timing of a rate rise, on clues that the Fed is in no rush to tighten policy after years of post-crisis monetary stimulus. The U.S. dollar, which has risen in the last 12 weeks, trimmed gains from earlier on Wednesday.
"The Fed is becoming increasingly focused on the potential impact of the stronger dollar on domestic economy at a time when the global growth momentum is beginning to slow, and the uncertainties this is adding to the economic outlook," said Millan Mulraine, deputy head of research and strategy at TD Securities.
In its Sept. 17 statement, the Fed's policy-setting committee repeated its assurance that rates would stay ultra-low for a "considerable time" after a bond-buying stimulus program ends, a pledge it has kept in place since March. The program is set to end this month.
The extent of the debate present in the minutes suggests the committee could move as soon as its upcoming meeting on Oct. 28-29 to change its description of when it may begin to lift rates from near zero, which they have been since late 2008.
"The concern was raised that the reference to 'considerable time' in the current forward guidance could be misunderstood as a commitment rather than as data dependent," said the minutes.
Meeting participants preferred to tie the guidance to economic data, the minutes said. The change would however "likely present communication challenges" and "caution will be needed to avoid sending unintended signals about the Committee's policy outlook."
DELICATE DANCE WITH MARKETS
The minutes also showed signs of concern from a "couple" of meeting participants that the strengthening U.S. dollar could hit parts of the economy and cause longer-term inflation expectations to move slightly lower.
Since the meeting, Fed officials have increasingly flagged the dollar's rise as a headwind to the U.S. rebound. While unemployment dropped to 5.9 percent in September, recent measures of inflation have eased and, on Tuesday, the International Monetary Fund slashed it global economic growth forecasts.
Some Fed officials cited disappointing growth and inflation in the euro zone, while several said "slower economic growth in China or Japan or unanticipated events in the Middle East or Ukraine might pose a similar risk," the minutes show.
"The deceleration of inflation from the spring and the rising strength of the dollar are noteworthy, and may mean the Fed may raise rates later than expected," said Anthony Valeri, investment strategist at LPL Financial in San Diego.
As it stands, both Fed and Wall Street economists expect a rate rise to come around the middle of next year. The central bankers, however, expect tightening to continue at a more aggressive pace than what is expected in the private sector.
In an unusual reference, the Fed acknowledged its concern that the market seems to behind in this regard, and suggested such a misalignment could complicate things when the time comes to raise rates for the first time since 2006.
"The probability that investors attach to such low interest rate scenarios could pull the expected path of the federal funds rate computed from market quotes below most Committee participants' assessments ...," according to the minutes.
(Reporting by Michael Flaherty and Jonathan Spicer; Editing by Tim Ahmann, James Dalgleish and Meredith Mazzilli)
